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Monday, July 25, 2016

The Irony of Boston Beer's Sagging Fortunes

These are interesting times for the Boston Beer Company, producers of Sam Adams beer, Angry Orchard Cider, Twisted Tea and several other fizzy drink brands. Once upon a time, Boston Beer was one of the hottest commodities around. These days, not so much.

If you watch stocks, you may think Boston Beer is fine. Its stock price rose 15 percent, to $190, last week, thanks mainly to a better-than-expected earnings report. As with all things, it sometimes pays to look a little deeper for a better understanding of what's happening.

Boston Beer financials aren't in great shape. Revenue and profits declined 3 percent and 11 percent, respectively, in the second quarter of 2016. But Wall Street was expecting even deeper declines. Instead of the expected $239 million in revenue and $1.95 per share profit, BB had nearly $245 million in revenue and $2.06 per share profit.

How they managed to generate revenue and profit is an interesting matter, which we shall soon get to. Because Boston Beer sales-to-retailers declined 5 percent in Q2. Shipments were down 100,000 bbls and operating income fell $16 million (23 percent) during the first half of the year.

The only growth in the BB portfolio is coming from outside Sam Adams and Angry Orchard, its best-known brand families. Sam Adams was down 6 percent by volume in IRI through July 10 and the on-premise picture is apparently worse. The Angry Orchard family, a significant growth driver in recent years, took a 20 percent hit. Meanwhile, the Twisted Tea family was up 13 percent.

How do you beat earnings expectations when your flagship brands are tanking? Simple. You cut advertising, promotional and selling expenses. Several reports say $8 million in cuts were spread between media/advertising/promotion and lower freight costs due to lower shipping volumes. Hey, fewer sales can be helpful!

These kinds of things obviously aren't sustainable. Sooner or later, they have to get the big brands moving again. And they know it. The plan, if you want to call it that, is to give Sam Adams a facelift with new packaging and advertising in the second half of the year. They'll also invest in Angry Orchard in hopes of returning that family to growth. At the same time, they expect to further reduce costs. You read that right. They plan to do more with less.

Their prospects are not good. You might say Boston Beer is the victim of its own success. Founded in 1984, it eventually became a national leader in the movement toward better beer. Sam Adams gained a following because consumers realized they were getting a product that was better than the swill sold by big beer. In effect, Sam Adams helped launch the craft beer revolution.

Ironically, the growing popularity of better beer helped spawn an explosion in breweries. Today, Sam Adams has to compete with more than 4,200 craft breweries around the country. Given the opportunity to purchase local beer, a growing number of consumers are doing just that. The result is that many large craft brewers are seeing significant declines. Sam Adams is one of them. I've mentioned this trend several times, most recently here.

The popularity of Angry Orchard Cider undoubtedly helped ease the pain associated with the escalating decline of the Sam Adams family. But the entire cider segment has lost momentum in recent times, thanks largely to the very fickle and promiscuous nature of younger drinkers who have moved on to hard sodas and other flavored fizzy drinks.

It's hard to see a way out for Boston Beer. Chasing the fickle and fast-changing tastes of Millennial drinkers is a sketchy proposition. Even if they reinvent the Sam Adams brands with a robust line of hoppier and seasonal brews, it's tough to see a viable way for them to successfully compete with the increasing number of well-made, local craft beers.

There is, of course, the possibility that Boston Beer could acquire smaller brands. They've bought breweries and brands before. Again, I'm not sure how that would work for them in the current context. They aren't in the same league as Anheuser-Busch, which has a vast distribution network. Boston Beer is a different kind of animal, entirely. Still, they could give that strategy a whirl.

Some of my industry friends have suggested that Boston Beer might be sold. That's a thought. But to whom? We're talking about a company whose most prolific brand families are in virtual free fall. And the challenges are not going away as more breweries open and other competition stiffens. Again, you wonder who would want to buy a collection of brands that are declining in value.

Please don't feel sorry for Boston Beer. The company has made oodles of money for its executives and investors. Founder and chairman Jim Koch has a number of quirky, nuanced views that make him a sort of lightning rod in the industry. But give Koch credit for helping start the revolution that is now squeezing his company out of the market.